By Frances Coppola, Forbes
Over the last few months, the world has been watching with interest and growing concern the intricate moves in the deadly dance of Greece, the EU and the IMF . The latest move in the dance comes from Greece itself. The Interior Minister has announced that Greece cannot meet scheduled debt repayments to the IMF in June.
This does not mean that Greece intends not to pay. Rather, it is warning that intransigence by the EU may force it into an IMF default.
It is not the first time Greece has used the “IMF default” tactic. At the beginning of May, Greece said it couldn’t pay an IMF loan repayment. Then, in a surprising move, it drained its SDR reserve account at the IMF to make the payment. This is effectively a short-term loan at a low interest rate from the IMF to Greece. And it is Ponzi finance – lending to a borrower so that he can service existing debts to the same lender. Using the SDR account solved Greece’s immediate cash shortfall, buying time for further negotiations. But it stores up further problems in the future. The SDR account will have to be topped up at some point.
Interestingly, the IMF appears to have advised Greece to use the SDR account for the payment. And this makes me wonder what strategy the IMF is playing. It seems to have decided to cooperate with Greece.
Superficially, the IMF’s aim is to recover the money it has already lent to Greece. But it has another, much larger concern. The Greek crisis is threatening the IMF’s own credibility.
The IMF’s involvement in the Greek bailout was controversial from the start. It broke its own rules in order to lend to Greece in 2010, arguing that systemic risks justified lending to a country whose debt was not by any stretch of the imagination sustainable over the medium-term. It was severely criticized by members of its own board of directors, notably by emerging-market representatives who were understandably miffed at what appeared to be special treatment accorded to Greece, or more accurately, to the Eurozone’s banks. The Brazilian representative, Paulo Nogueiro Batista, observed that the program:
…may be seen not as a rescue of Greece, which will have to undergo a wrenching adjustment, but as a bailout of Greece’s private debtholders, mainly European financial institutions.
And the Swiss representative tellingly asked why debt restructuring with losses for creditors was not on the table.
Two years later, debt restructuring was on the table. And there it remains.
The European Commission’s position is equally difficult. For the present incumbents, allowing Greece to default and leave the Euro would threaten their own positions. It would, at the very least, be a mammoth policy failure, even if it didn’t fracture the Euro beyond repair. And default within the Euro is debt restructuring, which so far they aren’t prepared even to discuss. But they don’t want to give in to Greece’s demands, because that would undermine the austerity-based “fiscal compact” they have so carefully constructed. So they are happy to let Greece dangle, but they don’t want to see it fall. The IMF’s brinkmanship is therefore very worrying for them.
On the other hand, some European government leaders, notably the German finance minister Wolfgang Schaueble and his Austrian counterpart Hans Joerg Schelling, seem to be happy to allow Greece to fall. Indeed, popular opinion in their countries would be pleased if they cut the rope. But disorderly default and exit for Greece would have unquantifiable effects: those in favor of it may say, with some bravado, that they have protected their banks so Greece presents no systemic risks, but they can’t prove this. If they allow Greece to fall, and the economic consequences forEurope are catastrophic as many predict, they will face punishment at the hands of their own electorate. In their own way, the opponents of Greek debt restructuring are also on the edge of the cliff.
The EU, therefore, is a house divided. So how will it respond, faced with the deadly cooperation of Greece and the IMF?
There are some indications that it is starting to lose its nerve. On 18th May the Greek newspaper To Vima reported (Greek) that the EC had offered Greece a deal which made important concessions, particularly on the primary surplus and the timing of tax rises. The deal also allowed the IMF a graceful exit. Predictably, the EC denied it had made any such offer. But it does appear that President Juncker has been working on a proposal that he hopes would be acceptable to all sides.
So how will this “death dance” end? Will Greece default? If it does, will it leave the Euro?
Leaving the Euro is in my view unlikely. Hardliners may be comfortable with Greece leaving the Euro – whether explicitly, or indirectly via a parallel currency – but no-one else wants that. Default, however, is a different matter. These negotiations are like a sword dance – precision is everything. If any of the participants makes a wrong move, default is certain. Furthermore, a run on the Euro is a possibility, particularly if the ECB pulls the plug on Greek banks.
The aim therefore is to achieve an agreed debt restructuring and establishment of a realistic reform program while enabling the IMF to get out and the EU to save face. So Greece will eventually get the debt restructuring that it wants, and some (though probably not all) of its economic demands, simply because the alternatives are worse. But getting to this point will test the nerves of the entire world: absolutely no-one wants to be seen to give in to Greece. And it will take the patience of a saint and the diplomatic skills of a Machiavelli. President Juncker seems to have taken this on. I wish him the very best of luck. He will need it.